EXCHANGE TRADED FINANCIAL DERIVATIVES MARKET IN INDIA EVOLUTION, PERFORMANCE AND PROSPECTS.

Abstract

Increased financial risk may cause losses to an otherwise profitable business. This emphasises the importance of risk management to hedge against uncertainty. Financial derivatives provide an effective solution to the problem of risk caused by uncertainty and volatility in the value of the underlying asset. Derivatives are risk management tools that help an organisation to effectively transfer risk. Derivatives are instruments which have no independent value. Their value depends upon the underlying asset.

The Bombay Stock Exchange (BSE) created history on June 9, 2000 by launching the first Exchange-traded Index Derivative Contract in India i.e., futures on the capital market benchmark index - the BSE Sensex. In sequence of product innovation, BSE commenced trading in Index Options on Sensex on June 1, 2001, Stock Options were introduced on 31 stocks on July 9, 2001 and Single Stock futures were launched on November 9, 2002. NSE also responded by introducing the derivatives products from time to time.

The GFC brought the focus back to the derivatives and their trading.Globally, the interest rate derivatives constitute the largest segment of the financial derivatives market. In India, the interest rate derivatives constitute only 1 percent of the financial derivatives market. Equity derivatives constituted nearly 90 percent of the derivatives market.

In India, there are two major markets, namely- NSE and BSE along with other exchanges of India for financial derivatives.Before derivatives trading began, NSE and BSE were all electronic equity spot markets. By international standards, they were small markets. They had roughly equal market share. NSE fared much better than BSE at derivatives trading. After all these changes had fallen into place, NSE and BSE were both amongst top 10 exchanges of the world, measured by the number of transactions.

Majority of transactions in financial derivatives market took place at National Stock Exchange. Currency and interest rate derivatives segment at NSE was much stronger as compared to that of BSE.

In currency derivatives segment of exchange traded market in India volume mostly came from those looking to profit from trading in derivatives rather than those looking to hedge risks. On BSE, proprietary trading accounted for 92% of the total turnover in 2015. Banks, major player in the OTC market accounted for 12-13% of the turnover on NSE and MSEI, while on BSE, their share is less than 3% in 2015.

Foreign entities active in the cash market and to a limited extent in the equity derivatives segment do not play a major role in the currency market. FPIs were allowed to participate in exchange traded currency segment in June 2014.

Though, the financial derivatives market in India has shown growth, the sectoral composition of the market is quite different from the global financial market. There are certain issuesto be tackled to solve the problems in financial derivatives market, particularly in interest rate derivatives.